ITAT Surat Allows Exemption on Penny Stock LTCG and Deletes Section 68 & 69C Additions

Background of the Dispute

The case of Nitesh Kumar Gadiya Vs ITO (ITAT Surat) concerns the treatment of long-term capital gains (LTCG) from sale of listed shares alleged to be “penny stock” transactions. The dispute relates to Assessment Year 2015-16.

The assessee, an individual, filed a return of income on 20.09.2015, declaring a total income of Rs.3,94,180/-. The return included exempt LTCG from sale of shares claimed under Section 10(38) of the Income Tax Act 1961. The return was subjected to scrutiny through CASS on parameters including:

  • Mismatch in turnover reported in audit report and ITR
  • Suspicious share transactions
  • Exempt long-term capital gains reflected in the return (penny stock tab in ITS)

The Assessing Officer (AO) subsequently made additions under Section 68 and Section 69C in respect of LTCG from sale of shares of “Lifeline Drugs & Pharma Ltd”, treating the transaction as a bogus accommodation entry. The National Faceless Appeal Centre / CIT(A) upheld the AO’s view. The assessee appealed to the ITAT Surat Bench.

Facts of the Case

Nature of Income and Return Filed

  • The assessee had income from:

    • House property
    • Business
    • Other sources

  • For AY 2015-16, the assessee:

    • Filed return on 20.09.2015
    • Declared total income of Rs.3,94,180/-

LTCG Transaction in Question

During the assessment proceedings, the AO noted that:

  • The assessee reported LTCG of Rs.5,97,789/- as exempt under Section 10(38).
  • This gain arose from sale of 2400 shares of “Lifeline Drugs & Pharma Ltd”.
  • The details recorded were:
    • Total sale consideration: Rs.5,99,649/-
    • Purchase cost: Rs.2,160/-
    • Resultant LTCG: Rs.5,97,489/-

The AO observed that the scrip “Lifeline Drugs & Pharma Ltd” was specifically named in a Kolkata Investigation Directorate report titled “Project Bogus LTCG/STCL through BSE Listed Penny Stocks” prepared by DDIT (Inv.), Unit 2(3).

Based on information available in:

  • ITD system
  • BSE and SEBI websites
  • Public domain
  • Other departmental inputs

the AO considered the company to be a penny stock with inadequate fundamentals and negligible genuine business activity.

AO’s Observations and Basis of Addition

The AO recorded the following key points:

  • The scrip allegedly lacked financial strength and substantive business operations over the period of purchase and sale.
  • Despite weak financials, the share price rose from about Rs.36.10 at the time of purchase to Rs.249.90 at the time of sale.
  • The AO viewed this price movement as engineered to provide accommodation entries of bogus exempt LTCG.

Some specific transaction facts noted:

  • The assessee had purchased 100 shares of Lifeline Drugs & Pharma Ltd on 14.03.2012 through broker M/s Purva Sharegistry (INDIA) Pvt. Ltd.
  • The purchase was made “offline” but consideration flowed through banking channels.
  • The assessee was not a regular trader or frequent investor in shares.

On these premises, the AO concluded that:

  • The assessee had obtained an accommodation entry in the form of exempt LTCG of Rs.5,97,489/- from penny stock dealings.
  • The LTCG claim was rejected and the amount of Rs.5,97,489/- was added as unexplained cash credit under Section 68.

Addition Under Section 69C – Alleged Commission

In addition, the AO:

  • Estimated that commission at 3% must have been paid in cash to “arrange” the alleged bogus LTCG entry.
  • Computed this notional commission at Rs.17,925/- (3% of Rs.5,97,489/-).
  • Treated this amount as unexplained expenditure under Section 69C.

Thus, the assessment order dated 28.12.2017, passed under Section 143(3), made two additions:

  • Rs.5,97,489/- under Section 68
  • Rs.17,925/- under Section 69C

Order of CIT(A) / NFAC

On appeal, the ld. CIT(A) (NFAC) upheld the AO’s findings. The appellate authority:

  • Examined the balance sheet and profit & loss account of “Lifeline Drugs & Pharma Ltd”.
  • Recorded that the company’s financial parameters did not justify the sharp increase in share price.
  • Observed that there was an “astronomical” rise in price without corresponding fundamentals.
  • Noted that the assessee did not satisfactorily explain why any rational buyer would purchase such shares at the elevated sale price.

On this basis, the ld. CIT(A) held that:

  • The assessee’s claim that the transaction was genuine was not acceptable.
  • The AO’s additions under Section 68 and Section 69C were to be confirmed.